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What is potash and why should we care? Chemically, potash is potassium chloride (KCl) which is a metal halide salt composed of potassium and chlorine. We care because potassium helps farmers produce higher quality crops; more weight per kernel and more kernels per ear of corn, greater oil content for soybeans….better milling quality in wheat….you get the picture. Potash is a soft rock, which is extracted from sedimentary sea beds formed by evaporation of ancient seas, which is mined via conventional shaft mining like gold and silver. After the ore is extracted the salt and other minor impurities are separated and the remainder is refined to a granular fertilizer product known simply as “potash”. The world’s population is expected to rise from present day 7 billion to over 9 billion by 2050. As greater and greater percentages of the planet’s population reaches middle class status the demand for food will increase in more geometric proportions. Demand for meat and other proteins will skyrocket. It is said $1 spent on fertilizer gives back $3 in bigger crop output. Against this backdrop, the world’s arable land is shrinking by an estimated 40,000 square miles annually. Farmers will need, no require, whatever crop enhancers are available to increase yields. As time passes, potash will trend from a mere commodity to a strategic asset.

Some Market Information

The Potash market is quite concentrated with three countries, Canada, Russia, and Belarus holding about 88% of proven world reserves with Saskatchewan, Canada alone holding almost 47%. These same three control two thirds of production capacity. Potash marketing has some OPEC like qualities as well. Canpotex, acronym for Canadian Potash Exporters, is jointly owned by three of the producing potash giants, Potash Corp. 54% (NYSE:POT), Mosaic 37% (NYSE:MOS) and Agrium (NYSE:AGU) 9% export outside North America all Potash from Saskatchewan which total about a third of the world’s potash market. Belarusian Potash Corp. has a monopoly on Russian and Belarusian potash and controls over a third of global exports. Axiomatically pricing power should come easily with such heavy domination. Let’s have a look and see.

In addition to potassium (Potash), nitrogen, and phosphate are the other two ingredients, in proper balance, necessary to increase crop output and promote overall health of plants. So potash might be analogized to oil, you need it, it’s essential, but for a little while at least there are substitutes. The world’s largest producer, Potash Corp., recently reported poor earnings and reduced future expectations due to strong pricing pushback from Chinese and Indian buyers. Demand has been weak enough that POT was forced to lay off workers and temporarily shutter its Rocanville and Lanigan mines. India has been encouraging nitrogen use by giving subsidies to farmers. The farmers need potash too and deals with India are expected before year end. China, while quibbling over a few dollars a ton, behind the scenes, sent two of their large state owned oil companies, Sinopec, and CNOOC (NYSE:CEO) to approach the Canadian government to inquire about investing in, what else, potash. Behemoth basic material miner BHP Billiton, (NYSE:BHP) previously rebuffed in their attempt to acquire Potash Corp., has announced plans to build the largest potash mine in the world in Saskatchewan. These moves taken together show me some very smart people are trying to stay “ahead of the curve” with attempts to secure access to guaranteed long term potash supplies.

The United States is the world’s second largest potash consumer behind China. While the U.S. consumes 9.5% of the world’s potash it has only 1.4% of earth’s reserves and imports over 80% of its annual usage. Denver, Co. headquartered Intrepid Potash (NYSE:IPI) is currently America’s largest potash producer supplying 9.3% of domestic needs and 1.6% of world demand. It has five mines, two in Utah and three in and around Carlsbad, New Mexico with an annual capacity of less than 900,000 tons: All that may be about to change.

Potential For Giant New Mines

The Arizona Geological Survey has identified 600 square miles in central eastern Arizona that may contain potash deposits of up to $1 trillion dollars. The location of this pot of gold lies 7 miles to the east of Holbrook, Arizona and is eponymously referred to as the Holbrook Salt Basin which lies within the Permian aged Supai Salt Formation. Significantly, most of the potash resource lies relatively close to the surface at depths between 800 to 2,000 feet below ground. Canadian and European mines are often 5 to 6,000 feet deep or more. That presents significant savings in the extraction process. Year round warm weather reduces operating costs. Existing rail, nearby interstate highways, and available power all make this a relatively easy place to build the first “greenfield” potash mine in over three decades. Finally, there is no competition for drilling from the oil and gas industry. Against this backdrop, several up and coming companies are in various stages of development to construct mines that in aggregate would dwarf the output of Intrepid Potash. Passport Potash (PPRTF.pk) currently a tiny $36mm market cap pink sheet listed Vancouver, Canada based firm controls 122,000 acres of land through state leases or direct ownership. Its recently updated National Instrument 43-101 (mineral resource estimate) more than doubled Indicated Resources and increased Inferred Resources nearly 15%. Indicated Resources might be analogous to “proved” reserves in oil jargon; you know where the fish are in the lake, you just have to go catch them. The NI 43-101report is the required first step in the multiyear approval process and is carried out only by registered geologists or geophysicists, in this case German firm ERCOSPLAN. At current potash prices of around $450 per ton Passport Potash may be sitting on reserves with a gross value of $50 billion…..and this report has surveyed only 37% of Passport’s land holdings. The next company is Denver based Prospect Global Resources (NASDQ: PGRX). Controlling and operating 90,000 acres of private and state leases with gross reserves of approximately $40 billion. PGRX despite dropping 75% from its yearly high still has a market cap of $129.9 million. Two other potential producers in the region are the Hopi Indian tribe and HNZ, a privately held entity controlled by Hunt Oil of Dallas, Texas. As no public information is available for these two entities I will focus my analysis on PGRX and PPRTF. So why is there such a yawning valuation gap with two companies of seemingly such similar profiles?

Prospect Global Resources (PGRX) appears to have some advantages that can explain disparities in the two firm’s worth. They are significantly farther along in the laborious documentation and geologic study process to begin digging. Their NI 43-101 has been completed and updated and they finished almost a year ago the next requirement in the chain, the PEA (preliminary economic assessment). Within the next eight months or less a final “Bankable Feasibility Study” (BFS) will be in place. This is effectively a financing instrument which further details not only the potash reserves by perhaps shooting 3D seismic but also specifically itemizes the cost to construct and operate the mines. It is the major document a bank will rely on to fund construction finance for what will be a roughly $1.3 billion project. On October 26 PGRX entered into a definitive agreement with private equity group Apollo Global Management LLC (NYSE:APO) a firm that manages in excess of $100 billion. APO will purchase $100 million in 10% convertible notes and warrants to purchase 16.7 million common shares at $3.00 per share. The main contingency to get the deal closed and funded is the BFS completed to the satisfaction of Apollo. We can assume that means affirmations of estimated potash reserves, mineral rights, and project costs. Finally, PGRX has secured definitive “off take” or guaranteed purchase agreement from Chinese firm Sichuan Chemical for a minimum 25% of an estimated 2 mm tons per year of production. The deal is backed by a letter of credit and is “Take or Pay” which means Sichuan is obligated to buy potash whether they take delivery of it or not. Per PGRX website deal pricing appears to be about $475 per ton though it was impossible to verify details precisely.

Parsing the mineral estimates in the NI 43-101’s of both company’s yields some interesting differences. Basically, to assess mineral content the geologists drill some holes and assay the ore for potash exploring percentage of mineral content as well as the thickness of the pay zone. Importantly, they also do the boring and ore calculations based on different radiuses. For example PGRX reports “areas of influence” of 1,600 meters for “Indicated Resources” and 3,200 meters for the less certain “Inferred Resources”. In other words the farther out from the center point the less accurate the measurements. Passport reports their reserves on a radius of 1,000 meters for “Indicated” and 2,000 meters for “Inferred”. This tells us that perhaps ERCOSPLAN is much more conservative in evaluating Passport’s potash reserves than North Rim Exploration is for Prospect Global. Also, a closer look at the landholdings between the two yields some sharp contrasts. 70,000 of the 122,000 acres Passport controls are private lands that are contiguous with no obligation to pay any royalty payments. Prospect Global has much of its 90,000 acres on the eastern side of the basin with much of it in a checkerboard formation with one tract on state lands next to a private next to a state land etc. Prospect Global may also be subject to some royalty payments on the private lands they control.

Any mineral developer anywhere in the world faces byzantine and seemingly interminable approvals before work can commence. From permits for environmental to water to mitigating the impact on some to be extinct insect, it all takes a long time. That said if you had to choose a location to build a mine, few spots seem any more hospitable than Arizona. Much of the drilling will occur on state lands which are actually owned by the “Arizona State Trust” (AST) and is regulated by the Arizona State Land Department. The AST will receive a small royalty, in the neighborhood of 4-5% of revenue and 90% of those funds collected are distributed to the public school system. Second, if the mines actually do get built and go into production, each mine may create over 750 new jobs, which would become available in an impoverished area of the state. Arizona views the Holbrook Basin a as a potential economic growth engine and is not looking to be obstructionist. Estimated time to clear the maze of permitting is up to 18 months.

America finally has an opportunity to become less dependent on foreign sources for what is fast becoming a strategic resource. The goal is for both Prospect Global and Passport to get all required construction and environmental permitting and feasibility studies completed so except for final project finance everything is ready to proceed. In all probability at this point, major funding partners like a BHP Billiton (NYSE:BHP) or Rio Tinto (NYSE:RIO) will step up. Perhaps the joint ventures will be with a major Chinese or Indian chemical or fertilizer manufacturer. The PEA of Prospect Global estimates mine operating costs are less than $100 per ton and with potash prices at $450 per ton this translates to gross margins of 75%. Even with each mine expected to cost $1.3 billion, at current potash pricing these projects potentially can generate huge shareholder returns. While this is a large amount of money, these costs are perhaps one third less than the price of a new Canadian mine. The potash market is over 50 million tons per year and growing at 3-4% per annum. Hopefully both of these mines should be operating within the next three to four years. While there are never any guarantees, now may be a good time to have a look at Potash.

DISCLAIMER: This article is not a recommendation to buy or sell PGRX, PPRTF.pk or any stock or company mentioned herein. I have no positions in PGRX or PPRTF.pk and no plans to initiate any. I have a short put position in both MOS and BHP which I might possibly add to. I might initiate a put position on POT on a pullback of a few percent.